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Blockchain technology underpins bitcoin and all other cryptocurrencies. Even if you’ve managed to wrap your head around bitcoin, however, there’s a good chance you’ve never heard a straightforward explanation of what a blockchain actually is

Bitcoin has now firmly cemented itself in the public mind. Thanks to the huge run-up in price last year and the accompanying media interest, people now broadly understand that bitcoin is online cash: digital money you can send and receive directly, without the need for a bank or payment processor.

Whilst the mainstream media has done a patchy job of explaining bitcoin and its importance, their explanation of blockchain has been sorely lacking. The blockchain is typically described as a ‘distributed ledger’ or ‘shared ledger’, but in terms of the detail given it might as well be the Philosopher’s Stone – something of tremendous significance that seems too good to be true, and that no one can adequately explain how it actually works. Enthusiasts are touting the technology as the answer to everything from financial exclusion to political corruption, whilst skeptics dismiss it as a fad, a solution without a problem or nothing more than a means of enabling fraud and other crime.

Right now, blockchain is like the internet back in the mid-90s: a massively important technology that is divisive precisely because it is too early for its implications having become clear – not least because it is so poorly understood.

At this point, we’ll take a deep breath and throw our hat into the ring.

 

Who gets to use the filing cabinet?

The inner workings of a blockchain are complex, with several different components that make up the whole. As an overall concept, however, the blockchain is nothing more than a community-run database.

Databases, of course, have been around for decades and should be pretty familiar to everyone. A database is an application for storing information in a way that can easily be organized, searched and updated. It is, when all is said and done, a glorified filing cabinet. The clever bit about blockchain is the way access to the filing cabinet is handled.

Ordinary databases have administrators who control who is allowed access to them, and how – in other words, who gets to use the filing cabinet. Users might register with the administrator and be granted direct access to their account, or they might register and submit requests to the administrator to change their accounts on their behalf. Either way, the administrator can allow or block access for individual users and can edit entries after they are made.

This is effectively the situation with a bank. When you send someone money through the banking system, you are not paying them money yourself. You are asking the bank to debit your account and credit the recipient’s account. The bank will generally do as you ask, but they don’t have to. They can (and do) ask questions about who and how much you are paying, they can block or reverse transactions if they deem it necessary, and they can impose fair or unfair charges of various kinds.

The point is, there is always an administrator – a gatekeeper who owns the database, who has control of it and who can alter it however they want. These administrators exist wherever there is a traditional database, and we have no choice but to trust them to maintain the databases honestly. That trust may or may not be deserved. The admin might impose conditions, delays, or fees; they might alter, delete or lose your data, with or without informing you. The problem is, without an administrator, the filing cabinet doesn’t actually belong to anyone. It might as well be sat in a field or street corner. Anyone could use the database, sure, but how do you stop them changing other people’s entries whenever they want to?

 

A different kind of filing cabinet

This is why the blockchain is such a remarkable innovation. It allows the existence of a database that no one owns, but that is nevertheless absolutely reliable. More accurately, no one owns it, and there’s no single administrator, but everyone maintains it. Collectively, the entire community – the network of computers that make up the blockchain and each store the information in the database – is responsible for keeping everyone else in the network honest. (These computers are usually called ‘miners’.) In a traditional database system, permissions are set by the administrator. In a blockchain network, the work of miners is to ensure that you and only you have access to your account.

Bitcoin achieves this with some clever maths and economic incentives. The miners that keep copies of the database of everyone’s financial transactions all compete to receive rewards of new bitcoins. Anyone can participate in this process but it comes with a cost since mining requires special hardware and uses electricity. If a miner acts honestly, sooner or later they will receive a share of the rewards and will not only cover their costs but hopefully make a profit. If they try to change the blockchain fraudulently – perhaps by adding a large number of bitcoins to their own balance – then the rest of the network will notice something is wrong and ignore the fraudulent transaction, meaning the rogue computer has not only passed up the chance of receiving rewards but has wasted all the resources they put into mining. So every miner is pitted against the rest of the network put together, all of whom know it’s in their interests to act honestly and maintain the database accurately. (If you’re interested in finding out more about how the bitcoin network operates and how consensus is reached about what should be in the database, you can read a more detailed explanation and find further resources here.)

What this all means in practice is:

  • Anyone can use the blockchain. There is no registration process: anyone can create an account (generally called an address), or any number of accounts, without any kind of approval from a third party.
  • Users can update their own accounts, and only their own accounts, by adding entries to them.
  • If a user has funds in their account, they can send them to whoever they want.
  • Similarly, if you have an address on the blockchain, anyone can send you money.
  • Once made, entries can never be deleted or altered. Only additional entries can be made. This makes bitcoin like handing over cash: payments cannot be reversed unless the recipient sends the money back.

The quirks of the way a community-run database is maintained are what gives bitcoin all of its unique properties. Everything special, different, controversial and innovative about bitcoin comes from the fact that responsibility for the contents of the filing cabinet is shared by everyone.

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